Why is Italy in trouble?

Italians have low personal debt, the second biggest manufacturing economy in Europe and Berlusconi claims the restaurants in Rome are full. So why is Italy now at the centre of the eurozone crisis?
Polly Curtis, with your help, finds out. Get in touch below the line, email your views to
polly.curtis@guardian.co.uk or tweet
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Updated

An Italian flag hangs from the side of the Colosseum as part of a commemoration of National Firefighters' Day in Rome in 2006. Photograph: Max Rossi/Reuters

11.38am: Italy's debts are massive. It is the second most indebted EU nation after Greece, measured by debt as a proportion of GDP.

But that general level of debt hasn't changed since 1991 and unlike other comparable countries it has relatively low-levels of household and business debt. Italy has managed its high government debts comparatively well but now that its economy is starting to look shaky the markets have taken fright, pushing the cost of Italy's borrowing up and putting in jeopardy its ability to borrow the €300bn it requires next year, mostly to repay its debts.

I asked Marco Simoni, a lecturer in European political economy at the London School of Economics, why Italy's economy is starting to looking so shaky now. He said that it is the results of the recent recession coupled with the fact that Italy, though a big economy, struggles to grow significantly. He said:

It's a completely different story to Greece. In Italy there is not a simple problem of cutting expenses. It's about recalibrating expenses with growth measures. There is a problem in the Italian business environment that prevents growth. Italy scores low in the World Bank indicator of how easy it is to do business – 80th. The problem is bureaucracy and sluggishness of the justice system in courts to clear financial and business matters.

People say: despite all the problems this guy made a fortune and built a big business. The state and tax system never helps business; they are an obstacle to be overcome. It's remarkable that despite all of this Italian firms still do so well. There are entrenched interests that hold a monopoly over certain services. Lawyers, notaries and all services that business need to operate and the state, we do not have an independent state service like France, there is too much vested interest.

If Italy fails to repay its debts the impact would be far worse than if Greece defaults as it has a much greater overall level of debt, meaning its creditors, mostly European banks, would be in serious trouble.

The bond markets are essentially the trade in government debts and Italy's is among the largest at around €1.9tn. The yield on the price of government Italian bonds has risen sharply – this is equivalent to the interest rate charged to the Italian government to borrow money. As my colleagues' Q&A explains:

The yield moves inversely to the price, so this means the bonds' value has fallen as investors have dumped their holdings of Italian bonds.

Investors are dumping their holdings for fear that Italy won't repay their debts, creating a vicious cycle whereby the more the price goes down as people offload Italian bonds for fear of them defaulting, the more the yield rises, the more likely Italy won't be able to refinance its loans and the more likely a default is.

When the yields hit 6% it was described as an "alarm signal". 7% is the point at which the IMF moved in to bail out Ireland and many analysts believe that is the real danger zones when markets would begin to panic and Italy would be in serious trouble - despite the fact that Italy's central bank this week claimed it could afford up to 8%. The yield hit a record high of 6.74% this morning.

Simoni says that the effects of the recession in Italy are very real - especially for younger people who have lost their jobs sooner than the older generation who are protected by better contracts. He also disputes Berlusconi's claim that the restaurants are still full. But he says that there is a very real problem of financial confidence in Italy. He said:

Italy is facing a short-term problem of confidence. Markets are worried that the situation of Italian public debt might get worse. We are still far from the point of default. The Bank of Italy a few days ago calculated that they could afford to pay up to 8%. The last auction was about 6% and that is high in historical terms but Italy is robust. One of the reasons for this is that personal indebtedness is extremely low. Italy is definitely a solvent country.

The pressure is now on Germany to sanction the European Central Bank to bolster its bail-out plan to make more money available to bail-out faltering economies and avoid a default if it is needed. The hope is that just the suggestion that there would be substantial bail-outs would be enough to calm the markets and send the yield on Italy's bonds back down making them more affordable.